Testamentary Trusts - Is There Still a Place for Them in Your Estate Plan?

Many of you have no doubt read a summary or highlights of the 2014 Federal Budget and noted the proposal to eliminate graduated income tax rates for testamentary trusts. Rather than thinking that testamentary trust planning is dead (no pun intended), in our view there are plenty of reasons to consider using trusts in your Will, including for income tax minimization.

Income tax splitting opportunities will still be available by paying income from a testamentary trust to beneficiaries who are not subject to the top marginal income tax rate. For example, family trusts which allow for the sprinkling of income among several beneficiaries, such as children and grandchildren in lower income tax brackets, can still provide significant tax savings.

While the Federal Budget proposal appears to result in a trust set up under a Will being taxed at the top marginal income tax rate after three years from your death, there are two key exceptions which will still be of value to those looking to minimize taxes in their estates. First, an estate will continue to have access to graduated income tax rates for 36 months after a person's death, which can still provide significant tax savings for the first three years of an estate's existence. Second, graduated income tax rates will still be available for testamentary trusts that have disabled beneficiaries who are eligible for the Federal Disability Tax Credit, which will continue to allow for tax-efficient planning for disabled beneficiaries who qualify. Further, the proposed changes to the taxation of testamentary trusts do not affect the rollover of assets to a spousal trust at their tax cost, so spousal trusts can still postpone capital gains tax on assets while providing all of the other benefits of a trust.

While tax considerations are important, when looking at an estate plan, other considerations may be equally or more important. All of the non-tax reasons for including trusts in an estate plan can be compelling depending on each individual situation. Succession planning to ensure property passes to future generations, protection of assets from future claims, including matrimonial claims, and probate fee minimization and avoidance of the probate process on subsequent deaths of beneficiaries, can be achieved by the use of a trust. And trusts will still often be the best option to protect certain beneficiaries; not only disabled beneficiaries who qualify for the Disability Tax Credit, but also minors, persons who suffer from a variety of special mental challenges, and others who require assistance in the management of their property and financial protection.

The testamentary trust income tax changes proposed by the Federal Government will, if passed, modify the advice estate planners provide for planning on death. However, with changes to the Ontario Estate Administration Tax on the horizon (see my previous post in December of 2012 "The New Ontario Estate Administration Tax Regime - What You Need to Know"), there will likely be more attention paid to planning to avoid the probate process, which may result in the more prolific use of lifetime trusts, not a decrease in their use.

The comments offered in this article are meant to be general in nature, are limited to the law of Ontario, Canada, and are not intended to provide legal advice on any individual situation. Before taking any action involving your individual situation, you should seek legal advice to ensure it is appropriate to your personal circumstances.

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